One in five investors in a recent BlackRock survey indicated that their experience of the pandemic has increased their interest in sustainable investing. But if investors want to double the money flowing into sustainable investing, they’ll have to do more than simply double the amounts they put in. The authors’ experience as grant-makers, investors, and activists suggests that in order for the sector to grow at the scale needed, investors need to get into the same room as the “problem solvers” — the people and organizations working on the environmental and social problems that sustainable investors want to help fix. This article presents examples of that collaboration at work.
In May 2020, a consortium of investors, including PensionDanmark — one of Europe’s 50 largest pension funds and a pioneer in sustainable and impact investing — committed more than 50 million euros to begin work on the development of an energy island 100 km off the coast in the North Sea called VindØ (“wind island”).
VindØ will serve as a hub and transmission facility for wind turbines generating up to 10 GW for the Danish power grid. The island, built from submersible concrete blocks, will also house production facilities for green hydrogen — a product considered critical for reducing carbon emissions in heavy industries, such as steel production and shipping. The project follows on the heels of a landmark decision by the Danish parliament — the largest oil and gas producing country in the European Union — to end its fossil fuel explorations in the North Sea, and it is part of the country’s Climate Action Plan.
We will see many more projects like this. A recent study by BlackRock shows that investors expect to double their allocation to sustainable and impact investing in the next five years. The Covid-19 global health crisis has not slowed down the demand for sustainable and impact investing. On the contrary, one in five people in the survey indicated that their experience of the pandemic has increased their interest in sustainable investing.
But if investors want to double the money flowing into sustainable investing, they’ll have to do more than simply double the amounts they put in. Our experience as grant-makers, investors, and activists tells us that in order for the sector to grow at the scale needed, we need to put investors in the same room as the “problem solvers” — the people and organizations working on the environmental and social problems that sustainable investors want to help fix. We can’t expect investors themselves to have the necessary expertise on social and environmental topics — such as ecological restoration, minority empowerment, or human rights — but we can expect them to engage with government agencies, NGOs, businesses, and activists so that they can together build market understanding of the issues, shape the design of next generation investment products, create economically viable businesses, and enhance the performance of those businesses.
Understanding the Economic Impact of ESG
Humanity has already wiped out four-fifths of the Earth’s wild mammals and severely altered two-thirds of marine environments. That sounds catastrophic for the environment. But what do rich biodiversity and healthy ecosystems have to do with investment portfolios? As investors confront unfamiliar new drivers of value and risk, from biodiversity to racial justice, they need to be able to identify, measure and manage how these factors will affect the value of their investments.
Spearheaded by four nonprofit organizations, including the World Wide Fund for Nature (formerly the World Wildlife Fund) and Global Canopy (a data-driven think tank), the Taskforce for Nature-Related Financial Disclosure (TNFD) was launched in 2020 to work with investors to confront those challenges. It aims to develop a framework for measuring the risks, impacts, and benefits of economic activities related to biodiversity. More than 70 organizations from the private and public sectors have joined the effort to date, including leading financial institutions collectively managing trillions of dollars such as Citi, Credit Suisse, AXA, and BNP Paribas. These investors know that the best chance to explore the relevance of “natural capital” in their investment portfolios is through partnering with problem solvers committed to these issues — and getting access to their data and insights.
Co-creating the Next Generation of Investment Vehicles
The future is not something that you step into; it is something that needs to be built. That is also true for sustainable and impact investing. In many cases, that requires defining and creating new markets that can be packaged as profitable investment products and traded. This innovation is rarely driven by investors alone. It involves co-creation with problem solvers.
For PensionDanmark (with $41 billion in assets under management) the foray into sustainable investment started in 2010, when they partnered with the Danish energy company Ørsted (formerly known as Danish Oil and Gas) to invest in renewable infrastructure. At the time, Ørsted was embarking on a strategy to transform itself from a fossil fuel company into a clean-energy company. As PensionDanmark’s CEO shared with us, “They needed financial partners because of the financial stress in the aftermath of the (2008) financial crisis, and we needed to get access to assets that could provide a more stable return [than] equity markets and traditional bond markets.”
The joint venture structure included an innovative risk-mitigation solution. The two partners agreed to a profit-sharing agreement under which PensionDanmark received financial price support, which provided the fund with a desired minimum return if the price of electricity dropped below a certain threshold. In return, Ørsted receive a larger share of the profits if the price increased above a certain level. Furthermore, as PensionDanmark was unwilling to take on the construction risk, the fund’s investment was made as a loan in the construction phase, which only converted into an equity stake when the wind farm had become fully operational. The fund has since replicated this model in many of its investments in renewable energy projects in the last decade.
Making Projects and Companies Bankable
In 2016, the Land Degradation Neutrality Fund (LDN Fund) was just an idea for an investment model that would channel investment capital to programs across Latin America, Asia, and Africa to rehabilitate degraded land, while delivering a profit to investors. It was an ambitious plan, not just because of the scale of the problem — more than 70 percent of Earth’s dry land area used for agriculture is degraded, and land covering 12 million hectares (equivalent to Bulgaria or Benin) is lost every year — but also because the pipeline of projects that a fund dedicated to land degradation could invest in was limited.
Instead of shying away from the opportunity, Mirova, the asset management firm that established the fund, has developed a working partnership with a nonprofit, the IDH Sustainable Trade Initiative in order to create investment candidates.
One example of these investments is Mountain Hazelnut, a company in Bhutan that grows and distributes hazelnut trees to thousands of farmers, who plant the saplings in degraded land (applying farming practices that reduce erosion and stabilize hillsides), harvest the hazelnuts, and sell them back at an agreed price to the company, which then sells them into the market. IDH works directly with the farmers to educate and assist them in sustainable farming. Since this work is paid for by grants from Agence Française de Développement and the Global Environment Facility, it does not add to the costs of operating the LDN Fund. To date, the LDN Fund has raised $150 million from investors and committed $60 million in projects like Mountain Hazelnut.
Guiding Investors on Where and How to Assert Influence
There is an increasing appetite on the part of investors and companies for forthright behind-the-scenes dialogue in order to understand how best to manage risk and create value. In ESG areas, however, where both investors and companies lack relevant on-the-ground experience, NGOs can make a valuable contribution to the discussions.
One such example is the engagement between Norges Bank Investment Management (NBIM), which manages the $1.2 trillion Norwegian Sovereign Wealth Fund, UNICEF, and the footwear and apparel companies in NBIM’s equity portfolio.
In 2018, UNICEF and NBIM embarked on a collaboration to better understand and advance global corporate policies and practices to strengthen children’s rights (not just their right to be free from child labor, but also their rights as children of factory employees and members of the communities surrounding the factories and farms). The two partners convened a group of companies to discuss the industry’s challenges and solutions. The participants included the largest European sportswear manufacturer Adidas AG, Swedish fashion retailer H&M, and Yves Saint Laurent owner Kering.
UNICEF used its research from factory and community assessments in Vietnam and Bangladesh to broaden the dialogue on what actions the companies can take to support children’s rights and social conditions. For example, their research highlighted how living wages and proper working and living conditions for the parents positively affect children’s education outcomes, and how maternity leave and breastfeeding policies affect children’s health outcomes. In 2020, after a two-year network engagement period, NBIM and UNICEF launched a report on children’s rights in the garment and footwear industries and a new “expectation guide” for NBIM portfolio companies on how to uphold them.
Sustainable and impact investing assets are now part of many investors’ investment portfolios. For example, in the U.S., $1 of every $3 under professional management is invested using a sustainable strategy. The kinds of investments described are becoming subject to ever greater analytic rigor as investors and problem solvers join forces — each side using their unique skills and resources in creative ways. Their continued collaboration will maintain the momentum and accelerate the money flow while protecting both profits and the planet.